The Accountant's Critical Eye

Remarks by

Arthur Levitt, Chairman
U.S. Securities and Exchange Commission

24th Annual National Conference on Current SEC Developments,
American Institute Of Certified Public Accountants, Washington,
D.C.

DECEMBER 10, 1996

Thank you very much for inviting me to join you today.

With the year 2000 fast approaching, it's become popular to talk
about "the millennium."  I considered using the millennium as the
focus of my remarks today, but soon realized that, from my
perspective, the accounting agenda for the millennium is no
different from the accounting agenda of 1934, or 1996, or any
other year: to act as an independent check on the natural
inclination of companies and governments to show themselves in
the best possible light.

I'm not just talking about auditors.  All accountants are
professionally bound to splash a bucket of cold water on overly
exuberant ideas about performance.  Your work provides a reality
check -- in many cases, the only reality check -- before
important economic and investment decisions are made.

Today I'd like to focus on two of the ways in which you provide a
reality check -- by setting high quality accounting standards and
by independently and impartially auditing financial statements.



Setting Accounting Standards

The SEC is concerned about standard setting because of our
mandate to protect investors.  Our principal tool in fulfilling
this mission is full and fair disclosure, so that investors are
able to make informed decisions.  Robust financial reporting is
essential to full disclosure -- that's why the Commission has the
authority to promulgate accounting principles.  Practically since
the SEC's inception, however, we have looked to the accounting
profession to play a leading role, while the SEC staff monitors
and oversees these standard setting activities.

In recent years, however, I have noted an increasing number of
attempts to override or interfere with the agreed framework and
process for standard setting.  While I firmly believe in the need
for free and unfettered debate, there's a process that is
insulated from politics, and we're all better off in the long run
if we respect that process.  This is one reason I'm not receptive
to requests that the SEC intervene to soften or delay FASB
projects before the process has reached out to all constituents.

On difficult issues, I've tried very hard to find consensus
solutions -- I've tried to avoid going outside the process by
passing a new rule or asking Congress for a new law.  I expect a
similar respect for the process from you.

The derivatives project is a good case in point.  The FASB's
existing procedures, with public participation and SEC oversight,
insure that there are opportunities for stakeholders to express
their views, and that the views expressed are evaluated
carefully.

But it's not only the standard setters who have responsibilities
in this process.  All of you -- and particularly those of you in
public practice -- must provide judicious, independent
assessments of problems in existing practice as well as proposed
solutions.

Farsighted business leaders over the last six decades -- and
members of public accounting firms figure prominently among them
-- have supported the independence of the standard-setting
process and have accepted even those standards that may have
worked against their short-term interests.

I know that the current discussion about accounting for
derivatives and financial instruments has been contentious, and
that the FASB is being told of a number of significant concerns.
My expectation is that each participant will offer comments that
advance the long-term improvement of our financial reporting
system, even if their views lack short-term popularity.  The
process requires meaningful, constructive, and well-supported
input, with participants looking beyond immediate interests and
the difficulties inherent in change.

With those cautions in mind, I encourage all of you to involve
yourselves in the standard setting process.  By and large, this
difficult challenge has been met by accountants in public
practice, preparers, users and academics over the last 60 years.
By continuing that worthy tradition, you can help maintain a
central role for the private sector in setting standards.  I look
forward to working with you to enhance financial reporting, which
is the cornerstone of our system of full and fair disclosure.

High quality US accounting standards have never been more
important than they are today, when the question of international
standards is being addressed.




International Accounting Standards

For the past several years, the International Organization of
Securities Commissions, of which the SEC is a member, has been
working with the International Accounting Standards Committee to
develop accounting standards that can be used in cross-border
securities offerings.  We support that goal, so long as it does
not in any way undermine the Commission's most basic mandate of
investor protection.

Last April, the SEC released a statement indicating that, if the
IASC's work plan is successfully completed, the Commission will
consider allowing foreign issuers to use IASC standards in
securities offerings in the US.  The statement further identified
three key elements that are necessary for the IASC's standards to
gain that acceptance.

These three elements are:

 *    the core standards must constitute a comprehensive generally 
      accepted basis of accounting
     
 *    the standards must be of high quality
     
 *    the standards must be rigorously interpreted and
      applied.
     
While all three of these elements are important, let me stress
for a moment the third -- the need for rigorous interpretation
and application.

The IASC is working to develop standards that satisfy the
objective of having similar transactions and events accounted for
in similar ways, whenever and wherever they are encountered.  If
that goal is to be achieved, auditors and regulators around the
world must insist on rigorous interpretation and application of
the standards.

When the Commission issued its statement last April, it
recognized the significance of the challenge the IASC has
shouldered.  But a second, equally important message in that
statement may not have been heard -- that acceptance of IASC
standards by the SEC is not a foregone conclusion.  The decision
regarding acceptance of IASC standards will be made after the
core standards are completed, based on the substance of those
standards.  There's no doubt in my mind that their acceptability
to US investors will depend on how well those standards measure
up to our own.

That's not to say that capital markets around the world must
accept US accounting standards.  It is to say that international
standards must produce financial reporting with the same
credibility and integrity produced by US standards.  They need
not reproduce the words of US GAAP -- but they must yield the
same results, in terms of credibility and integrity.

Nor are we about to jettison US GAAP in favor of international
standards.  US GAAP will remain an integral component of our
capital markets.  Some have suggested that the development of
international standards will create a significantly different
role for the FASB.  As I see it, the need for a strong American
standard-setter will only grow.  Certainly the FASB will
participate in and influence international standard setting
efforts.  Most importantly, it will continue to identify and
address the difficult issues of the day, establishing credible,
conceptually sound accounting standards for US enterprises, so
that our financial reporting standards continue to lead the world
in meeting the needs of investors.



Other Approaches to Foreign Registrants

Some have offered other approaches to opening our markets to
foreign issuers -- for example, relaxing SEC reporting
requirements for selected "world class" foreign companies and
allowing those companies to list in the US without reconciling
their home-country accounting and reporting to US GAAP.
Proponents of this approach believe that, if such companies were
clearly identified, investors would be adequately warned of the
additional risks.  Supporters also argue that it will bring US
investors, currently trading outside the safety of US markets,
back "onshore."

I have serious concerns about this approach.  It suggests a
return to the "caveat emptor" market that prevailed 65 years ago.
The SEC's participation in IOSCO and the IASC process is
motivated by a strong belief that the success of US markets is a
direct product of our high-quality financial reporting system.
This system gives investors confidence in the integrity of US
capital markets -- and without investor confidence, markets
cannot thrive.

The US system of disclosure makes possible the widespread
participation of individual investors in capital markets by
ensuring access to reliable financial information about public
companies.   An article in Newsweek last month mentioned that in
Germany, one in 20 households owns stocks; in the US, that figure
is one in five.  It is the individual investor -- investing
either directly or through mutual funds -- who has made US
capital markets the deepest, most liquid, and most admired in the
world.  I fear that loosening reporting requirements for selected
foreign filers ultimately could discriminate against those
individuals, and risk a loss of confidence in US capital markets
-- especially when major US companies inevitably ask that they
too be allowed to adopted similar, less exacting reporting
standards.

The disclosure we require is not only good for investors; there
is evidence that it also benefits those doing the reporting.  In
a recent article in the Columbia Law Review, Professor Louis
Lowenstein noted that senior officers of two important foreign
companies reported "a long list of managerial gains from improved
financial disclosures... they have found it easier to manage the
company intelligently... Not surprisingly, they also reported
greater access to world capital markets and better stock
prices... reflecting greater confidence on the part of
investors."

I have worked hard to encourage foreign companies to come to our
capital markets.  I believe that foreign listings benefit all
stakeholders in US capital markets -- and I'm proud that we now
have a record 856 foreign registrants, compared with 434 in 1990.
Indeed, the year 1996 brought our first Russian company; our
first Ghanaian company; our first Taiwanese company; as well as
the first Japanese and South African registrants in nearly 10
years.  I believe that foreign companies that come to the US
markets realize benefits that far outweigh their costs.

There is no question that the success of the IASC's project will
require an unparalleled degree of cooperation among standard
setters and regulators throughout the world.  Agreement on
international accounting standards involves reconciling the
interests of different business, professional, and regulatory
cultures and systems.  We must acknowledge that success, while
within our grasp, is not assured, and we must work diligently to
build a framework for the future.

While we're building that framework, there is another framework
that I fear may be slipping away.  I'm speaking of the
traditional understanding of the need for auditors to be
absolutely and unquestionably independent.


The Role of the Auditor

I recognize that not all of you are auditors, but I think it is
important that we all understand and appreciate the special role
and responsibilities they have.

The profession and the Commission have a long history of assuring
that financial information going into the marketplace is
credible, relevant, and reliable.  The primary responsibility for
the accuracy of financial statements filed with the Commission
rests with the registrant and its management.  The role of the
auditor is to express an independent opinion on the financial
statements prepared by management.

Congress has long recognized that independent auditors are
uniquely qualified to help the Commission fulfill its mission of
full and fair disclosure.  The auditor is thus the only
independent professional that one must engage prior to making a
public offering of securities, and the only professional with the
express duty to act independently from management.

The price the profession pays for this special role is to accept
important limitations on its activities -- at least insofar as
clients that are public companies are concerned.  To maintain
both the fact and appearance of independence -- and thus the
confidence of investors -- auditors must avoid all suggestions of
mutuality of interests with management of registrants for which
an auditor provides services.  At the simplest level, members of
audit firms can't invest in client firms; can't be related to or
borrow money from clients; and can't participate in management
activities of audit clients.  Moreover, auditors can't sell
services that leave them auditing their own work.

This special role was codified in our securities laws in 1933 as
a public trust granted to the profession.  In many respects, the
profession has performed its role well.  Indeed, the incidence of
fraudulent financial reporting in this country has been very low.

But certain rumblings above and below the surface suggest that
the profession may be discounting the huge importance investors
place on the objectivity and independence of auditors.

Two recent private sector studies expressed concern that auditing
firms are becoming more focused on consulting and other services,
at the expense of the audit function.  I share those concerns.
The auditing function should be the very soul of the public
accounting profession -- not a loss-leader retained as a foot in
the door for higher-fee consulting services.

I am raising this topic because of the value I place on the
auditor's role.  This high regard reflects the tremendous
contributions the profession has made to the stability and
sophistication of our capital markets.  It also reflects my
personal experience -- I am and, for most of my life, have been
an investor.  I have valued the information provided by financial
statements; and I have used those statements as the basis for my
investment decisions.  I place a premium on information that has
been audited -- because, like so many millions of investors, I
have had confidence in the independence and professionalism of
auditors.

As accounting firms seek to reinvent themselves, they must not
erode the special status created for them 63 years ago.  The
public -- and those who act in the public's behalf, such as the
SEC -- need to be assured that audit firms will continue to make
the necessary investments over time to insure that audit quality
is not compromised, and that auditor performance will continue to
meet public expectations.  It is encouraging that the AICPA has
recognized this as a growing issue and is looking constructively
at ways to deal with it.  I hope these efforts are fruitful.

For US capital markets to be as successful in the future as they
are today, we must build on our strengths -- market integrity and
investor confidence.  And those two strengths rest very much on
your shoulders.

I see you as the Commission's natural allies -- indeed, each of
you has responsibilities that are closely aligned with those of
the SEC.  While others serve the bottom line, as they should, you
and I bring other priorities to the table.

I'm not an accountant.  But I am one of the profession's greatest
admirers.  And I'm convinced that your greatest asset is neither
the university that granted your degree, nor the clients that
have used your services -- it is the critical eye you cast on the
information that comes your way about the client or company that
hires you.

But a critical eye requires distance -- indeed, without distance
from the subject, even 20/20 vision is reduced to near-blindness.

I ask you today to remember the special franchise our society has
granted to auditors.  And I remind you that this franchise rests
on your ability to inspire the confidence of investors.

That role has been fulfilled admirably by generations of
accountants, both in industry and in public practice.  Let us
build on that remarkable history -- let us guard the integrity of
the process -- and, above all, let us work together to ensure
that the confidence of investors is not compromised, but rather
strengthened.  Thank you.

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